All Entries Tagged With: "Momentum"
Psychology of Overbought, Oversold, and Market Extremes
July 28, 2009 at 8:26 am
Ever seen something get just a little overdone?
Perhaps it was that weekend barbecue, or the tattoo collection on that dude you saw the other day.
No doubt, we all run across the occasional extremes, and they’re usually worth a story or two.
It happens in the market too. Bounces get a bit stretched and before you know it, you’re staring at overbought conditions. And sometimes selloffs spark a little more damage than usual, creating oversold conditions.
We don’t see ‘overbought’ and ‘oversold’ every week, but it happens regularly. Emotions are a primary driver of the price action, so it’s no surprise that at times they challenge the boundaries of ‘normal’ and produce market moves with an unsustainable pace.
Every now and then, we’ll see true extremes in the market. Sometimes it’s when the upside momentum runs so hot that it produces a parabolic uptrend. Some of the fastest money on the long side can be made during such times, but high risks are there right along with those rewards. It’s somewhat of a party atmosphere though. Feels like it might not ever end.
And of course at times we do see selloffs become all-out panics, when capitulation prompts everyone and their dog to sell. When it happens, it can be rather spooky to see. Feels like it might not ever end.
What’s the Difference?
There are definitely various degrees of strength and weakness in the market, so let’s take a little deeper look and see what we can pick up and apply going forward.
The fact of the matter is that whether we’re discussing overbought or oversold conditions, or parabolic uptrends or all-out capitulation, the moves in price are happening at an unsustainable pace.
That means it might continue for a little longer, but not forever. Eventually, some kind of recoil or pullback or reversal is going to arrive, ending the move. Another might follow in the same direction, but the point here is that price doesn’t move in a straight line forever.
With that said, the biggest factor in determining exactly which condition we’re seeing is going to be the timeframe being referenced.
For example, on an intraday 5-minute chart, a parabolic uptrend can occur. That same move may leave the daily chart of the same stock hardly even overbought. So looking under the microscope won’t often correspond to the big picture view.
Faces in the Crowd
As we examine these conditions, it’s crucial that we take notice of all parties involved: the buyers, the sellers, and those who are short. Knowing who’s involved and being able to continually evaluate their likely motivations can give us a big edge as traders. It means we’ll be better prepared for knowing if the move might persist, or if instead we need to be on watch for a sudden shift. Let’s look at a few situations and the roles which matter most…
First though, a brief description of how I’m using these terms:
Buyer – a bull with cash on hand who wants in.
Seller – a bull with inventory (shares) on hand who wants out.
Short Seller – a bear wanting to get in and profit from a decline.
Overbought:
Buyers – they’ll be greedy and eager to buy the first dip. In an overbought market, the bulls are correct and anxious to add to their positions. They view it like they’re defending turf, so give them some respect until they show signs of tiring out.
Short Sellers – they’re using strength to initiate reversal plays, but walking the tightrope. Understanding that they’re putting on short sales at the near-term highs means they’ll likely be quick to cover if more strength arrives.
Oversold:
Sellers – they’ve quasi-panicked and dumped when they shouldn’t have, adding some fuel to the fire. Once they see a bounce or some stability, they’ll likely get long again. If the bounce fails, they’ve just compounded their mistake, perpetuating the cycle.
Buyers – they’re trying to ‘buy low’ but struggling, because with each new low in price they get spooked and jump ship again. If a little more pain can be inflicted, they’ll give up. At that point, they’re vulnerable to getting caught very off guard.
Parabolic Uptrend:
Buyers -this is all-out greed. They’re making money hand over fist, and see no end in sight. The upside pace has increased, as has their desire for more, and they have no idea that the edge of the cliff is fast approaching. Once it arrives, they’re in for a shock and they’ll rush for a chair as the music stops.
Short Sellers – early = wrong. They’ve recognized the unsustainable pace of the advance, and they know they stand to benefit big if they can simply time their entry well. Unfortunately, their confidence is battered at this point, as is their account. They’re wounded but staying attentive for an opportunity which will quickly increase their boldness.
Capitulation:
Sellers -regrets, regrets, regrets. Repetitive questions of “why didn’t I sell back at $__” plague this crowd, and they’re absolutely sick of getting beaten up. They’re throwing in the towel, and planning to buy a small used boat with what’s leftover. It’s been a long road for them, but the pain isn’t over because as the low gets established and price rebounds without them, their ego takes one last significant hit.
Buyers – what began as a bold get-in-front-of-the-freight-train move has chipped quickly away at their equity as time after time new lows stop them out. But with some dry powder still available, they sense a chance to pick up some bargains with potential. If they can only endure the foul smell of a sick market and go completely against the crowd, it’ll pay off big so they hang around and keep trying until their ship comes in.
The Biggest Question
Are you in the habit of evaluating not only the conditions you’re trading in, but also the participants at any given point in time?  Understanding what the flip side is thinking will help keep you grounded and more aware of whether it’s time to hold ’em or fold ’em!
Thanks for stopping by and I’ll see you here soon with more. Until then…
Trade Like a Bandit!
Jeff White
Are you following me on Twitter yet?
Protect Capital Even in a Bull Market
July 27, 2009 at 8:03 am
This market sure has been strong – we have yet to see a pullback which has lasted longer than a few minutes!
Instead, we’ve merely seen brief pauses of sideways price action, which is quite nice…if you’re long.
A powerful market like this does have a downside though, which is fewer quality setups for new long side entries. And shorting? Well, let’s just say some feelings have been hurt for the bears!
We’ve come a long way since the July 8th lows, and right here, it’s very easy to chase stocks if you want to get long. It feels like it almost can’t go down (famous last words), and thus confidence is really high. But that doesn’t make buying here a good decision. In fact, sometimes it’s best to actually let the market come to us after such a move.
Protecting capital is the top priority of all successful traders. Making money is secondary.
Even strong bull markets like what we’re seeing right now require that we protect capital. It’s easy right now to think making money on the long side must be easy when the market rallies almost daily.
But trading out of fear that the market will run off and leave you behind is a recipe for forcing trades, which will usually cost you more money than it’ll make you!
Stay Focused
Our job as traders is to take only the best setups with the highest reward and lowest risk associated with them.
Keep that in mind here, as the market remains quite extended on a short-term basis. Manage your open positions the best way possible, and be willing to patiently let the market come to you. Once it does, then set up new trades.
There will be plenty of good setups in the next few days and weeks, but it isn’t wise to lower your standards and buy stocks that are technically extended just to get long.
A lasting bull move will offer plenty of chances to buy, and that’s best done on pullbacks or after resting phases. If this breakout sticks, we should see many opportunities in the weeks to come.
Thanks for stopping by and I’ll see you here soon with more. Until then…
Trade Like a Bandit!
Jeff White
Are you following me on Twitter yet?
Rip City – When Will We Rest?
July 23, 2009 at 12:44 pm
Shorts are getting torched right now. The extreme momentum we’re seeing is definitely of the emotional variety, although it’s been technically significant as well.
Today, for example, the NAZ is going for its 12th straight advance – an impressive feat which has brought about a 14% move from the low set earlier this month.
We’re very stretched right now to the upside in the short term, and yet there could still be more.
So the biggest question on everyone’s mind right now – both bulls and bears alike – is “when will we rest?”
The notion of a pullback after a move of this magnitude isn’t crazy. It’s logical to expect at least some profit-taking after such a huge surge. But we’re still looking for one.
And given that the technicals are taking a back seat to emotions right now, it makes it tougher to determine when a dip might develop into something a little more than just a 15-minute slide.
Fortunately, there’s one situation in play right now that could offer a sell signal for a quick trade.
Just a little while ago over on the trading videos site, I posted the following video. In it, I discuss this topic and offer a rare clue to watch for when it comes to expecting a little deeper pullback than just a few points.
Let me highly suggest clicking the “HD” on the video player and then going full-screen for best quality.
Just remember to wait until this pattern confirms, because until that happens there’s still upside momentum that deserves the utmost respect.
Thanks for stopping by and I’ll see you here soon with more. Until then…
Trade Like a Bandit!
Jeff White
Are you following me on Twitter yet?
We Now Interrupt Your Normal Programming
May 14, 2009 at 7:21 am
Perhaps the automatic buy button got disconnected somehow, but Wednesday’s decline marked the 3rd consecutive decline in as many days – something we’ve not seen since early March when this market caught fire for 9 very green weeks.
And although a 3-day losing streak is far from the worst thing this market could see, it begs the question of whether or not it’s the beginning of, um… a change of character.
A short-term turnaround.
Ok, a reversal, to put it bluntly.
After all, a pullback is going to happen eventually which lasts for a few weeks – not just a few days, and now might be just as good a time as any for that to happen.
No Crystal Ball
Now, I’m not one to make big bold predictions, but some of you might recall that on the day of the low in March – yes, 9 weeks ago – I showed you right here the “technical threat of a short-term reversal.” I wasn’t going out on a limb, just calling it as I saw it.
It turned out pretty well.
So here I am again, simply pointing out what I see.
And if this does prove to be the early portion of the first meaningful pullback we’ve seen since early March, it’s important to first recognize that it would be a healthy event. The strongest markets do have pullbacks along the way, and that actually can help to perpetuate a trend.
Think of it like a rest – nobody can run nonstop forever, and the market is the same way. Some time on the bench can be a good thing.
Winds of Short-Term Change
This question of whether conditions are shifting or not is at the forefront of the discussion right now. Most individual stocks will take their cues from “the market,” which is developing a bit of a rolled-over appearance on the daily charts here, I might add. Stated otherwise, it might play out to be more than merely a 3-day dip, with a pretty big if. (See the caption on the chart below.)
StockFinder Chart courtesy of Worden
3 Positives of a Pullback
And so it may very well be that a decent correction is finally starting here, which if it does, could serve to do a number of things – all of which are good. Assuming we don’t go straight back to the March low, that is. Here they are:
1. The widespread overbought conditions we’ve seen for the past several weeks can finally go away. That means when a bullish setup appears, it’s less likely to need a “stay away” sign in front of it for those of us who prefer to manage our risk accordingly.
2. Stocks should (once a good pullback is completed) be able to set up some new bases, patterns, and support zones for trading. While this might take more than just a few days, it’s ultimately great news – especially if your preferred timeframe is swing trading. The stocks which have produced nothing but steady climbs without rest can finally pull back and establish some new support – like a higher low. Combined with the higher highs we’ve already seen in recent weeks, that would keep the uptrend intact.
3. A meaningful pullback is going to help separate the men from the boys. During this run from the March lows, few stocks have failed to participate. It’s almost like everybody’s doing it. It seems virtually everything has joined in the rally, making it difficult to determine which stocks are merely being squeezed higher and which ones are developing into true, lasting leaders. Separating the also-rans from real leadership should help to narrow our focus as traders, and give us higher quality plays on both sides of the tape. That’s something we all stand to benefit from, whether bull or bear.
So in closing, let me just say I’m no perma-bear. But don’t hate me if I’m rooting for a little more of a correction here. It sure doesn’t have to last forever, and I think it’ll lead to much better things for those of us trading this market.
Jeff White
President, The Stock Bandit, Inc.
Swing Trading & Day Trading Service
www.TheStockBandit.com
[tags]Stock Market, Day Trading, Stock Trading, Investing, Swing Trading[/tags]
Profiting from Market Changes
May 6, 2009 at 9:12 am
It’s a strong tape – there is no doubt about that. When the NAZ has rallied for the previous 8 consecutive weeks (and currently gunning for 9) and the DJIA has tacked on 30% during the same stretch, you’re looking at quite a rally.
But during the course of that run, the pullbacks have been both temporary and timid. We haven’t seen a great selloff in quite a while, though that will change. In fact, for the past 40 trading sessions, we’ve seen no pullback which lasted more than a mere 2 sessions.
That means every single dip thus far (since the March lows) has been met with buying – quickly.
That also means that the standard bases and chart patterns in classic technical analysis have been harder to find. Yes, there are a ton of stocks in uptrends out there, but not many of them have slowed down long enough to produce a launching pad for stair-step type moves.
As a result, it feels like a lot of plays right now are momentum plays, whereby you’re hopping on board a train which is already rolling. That’s not entirely bad, but if you’ve been the kind of trader who prefers to let 5-10 day bases get constructed before taking entries for continuation moves, you’ve had to be pretty selective.
Or adapt.
That’s what I’ve done more of lately. Rather than wait for 1-2 week bases to build, I’ve actually been taking some plays which only rested for 1-3 days. It’s a mindset shift, and I expect it to be a temporary one at that, but it’s one which I’m willing to make for some profits.
And they’ve produced.
Here are a couple of plays I took recently and you can see the bases were brief. However, they were certainly worth trading.
Up first: WGOV. This one didn’t slow down for long, but the lack of a dip after such nice momentum hinted that some continuation could arrive soon:
StockFinder Chart courtesy of Worden
Then there was BYD, which also just didn’t seem to want to slow down. After running quickly higher, a brief 2-day pause was enough to inspire more upside:
StockFinder Chart courtesy of Worden
Last (but certainly not least), there was VCP, which we took for a multi-day move on the breakout through $9.25. Typically I’d prefer a little larger base for swing trading, but in this non-stop market I had to adjust – and it was well worth it for an impressive 2-day jump:
StockFinder Chart courtesy of Worden
It’s a simple fact of trading that the market is continually evolving. Sometimes the mechanics change, but there will also always be gradual shifts in how the price action plays out. At times there will be those classic chart patterns to trade from with larger, more defined bases. Not always though.
But when you know there’s opportunity and you sense a slightly different setup is worth taking, be willing to adapt. It’s the key.
Trade Like a Bandit!
Jeff White
Producer of The Bandit Broadcast
